JERUSALEM, Aug 30 (Reuters) - Mizrahi-Tefahot, Israel's third-largest bank, reported a 48 percent drop in quarterly net profit on Thursday, as it hiked a provision to cover the potential settlement of a U.S. tax evasion investigation.

Mizrahi said it earned 207 million shekels ($57 million) in the second quarter, compared with 400 million shekels a year earlier, and 390 million shekels forecast in a Reuters poll of analysts.

It said it set aside 425 million shekels, or $116.5 million, in the quarter to cover a likely fine by U.S. authorities. It had previously set aside 161.9 million shekels, or $46.1 million.

Excluding the provision, net profit was 472 million shekels in the quarter.

Earlier this month, Mizrahi rejected a proposal from the U.S. Department of Justice to pay a fine of $342 million to settle the U.S. tax evasion investigation.

The bank said it believed any "reasonable calculation" based on the behaviour of its employees as described by the Justice Department would result in a much smaller fine.

Eldad Fresher, Mizrahi's CEO, said the investigation was nearing the end.

"We intend to conduct an intensive dialogue, to the extent that it depends on us, in order to reach a proper settlement as soon as possible," he said.

Due to the higher provision, Mizrahi said it opted against paying a dividend this quarter. In the first quarter, it had raised its dividend payout to 40 percent of net profit.

It cited a drop in its Tier I capital ratio, a key measure of financial strength, to 9.95 percent - less than required by the banking regulator - from 10.15 percent in June 2017, as well as a decline in its overall capital adequacy ratio.

Financing income before credit loss expenses rose to 1.47 billion shekels from 1.19 billion, while the credit loss provision climbed to 90 million shekels from 42 million.

Credit to the public in the quarter rose 5.6 percent, while deposits from the public grew 5.1 percent.

"The bank is showing strong performance in its current banking activity with continued growth in revenue, credit and deposits," Fresher said.

"The bank will ... return to a capital adequacy ratio of more than 10 percent in the next quarter and the assessment is that we will be able to return ... to a dividend distribution policy during 2019."

Hapoalim, Israel's largest bank, has set aside $365 million to cover a possible settlement in a similar investigation into suspected tax evasion by U.S. clients.